Jump in imputed rent pushes inflation upwards

The March CPI measurement exceeded all official forecasts, which lay in the 0.5-0.7% range, including our own forecast of a 0.5% rise in the CPI. Imputed rent jumped unexpectedly, rising by 2.1% (0.40% CPI effect), well above our projected 0.8% rise (0.15%). Paid rent increased by 0.8% (0.03% CPI effect). Over the next few months, developments in the housing market could be affected by the Government buy-up of homes in the town of Grindavík, as house prices have risen more in the Suðurnes peninsula region than they have elsewhere in recent weeks. According to SI, prices in regional Iceland rose 3.8% month-on-month, whereas in greater Reykjavík, single-family home prices were up 1.2% MoM and condominium prices by only 0.6%.

In this context, it is worth noting that just this morning, SI published its report on the forthcoming changes in its methodology for calculating imputed rent. Instead of the current method, which is based on the market price of housing and real mortgage interest rates, SI will use a method based on data from the rental market. The new method will be introduced in June 2024. We think it probable that the new method will reduce volatility in imputed rent and result in lower measured inflation in H2/2024.

International airfares spike over Easter

In line with our inflation forecast for March, airfares were the main driver of this month’s CPI increase, apart from the housing component. International airfares were up 9.9% (0.16% CPI effect),owing to the surge that comes every year over the Easter holidays. The uptick usually occurs in April, but Easter comes early this year, and the spike in prices will straddle both March and April as a result.

End-of-sale effects still in play, but motor vehicle prices are down

Clothing and footwear prices rose 2.1% (0.08%) in March, indicating that end-of-sale effects are still lingering. They were much weaker than in February, however, suggesting that seasonal sales were held earlier than has often been the case in the past. Notably, motor vehicle prices declined by 0.9% (-0.06%). Demand for new cars is down significantly year-on-year in 2024 to date, and this may have affected prices.

Underlying inflation

Most measures of underlying twelve-month inflation increased this month, as did headline inflation itself. One metric stands out from the crowd, however: core index 4, which excludes imputed rent and is arguably SI’s narrowest measure of underlying inflation. Core 4 inflation declined in March and is currently 4.5%, its lowest since June 2022.

The near-term outlook

The past few months’ inflation figures have been somewhat surprising, and the deviation between the March measurement and related forecasts is the smallest observed thus far in 2024. Inflation fell faster in January and more slowly in February than forecasts had indicated. In our opinion, the outlook is for relatively rapid disinflation in coming months. According to our updated preliminary forecast, the CPI will rise 0.6% in April, 0.3% in May, and 0.5% in June, leaving headline inflation at 5.6% in June.

According to our long-term forecast, inflation will average 5.6% in 2024, 3.3% in 2025, and 3.1% in 2026.